– We’ve previously discussed how a trader can use Fibonacci retracements on long-term-charts, and by focusing on multiple important moves traders could be able to glean confluent regions of support/resistance. This can offer multiple motives for buyers or sellers to defend these key spots on the graph, keeping the door open for reversals or retracements.
Fibonacci is wrapped in mystique, and this also makes the story around it that much more intriguing. But for applicability in markets, the simple version is that Fibonacci retracement levels offer you potential areas for support and/or immunity to grow; and because market participants can make use of these amounts in their analysis and, subsequently, because these prices have potential impact for cost behavior, this can be a superb addition to the FX traders repertoire of support and resistance analysis.
Origins
Italian mathematician Leonardo Fibonacci is credited with locating the Fibonacci sequence from the 13th century, hence the title’Fibonacci’. The arrangement is fairly simple: Two numbers added together create the next value. The first 22 values of the Fibonacci chain are published below:
1, 1, 2, 5, 3, 8, 13, 21, 34, 55, 89, 144, 233, 377, 610, 987, 1597, 2584, 4181, 6765, 10946, 17711
This starts to get interesting once we look at the numbers relationship inside the order to one another. If we take a value and divide by the previous value, we will get a number approximately near 161.8%. So, each number in the order is 161.8% higher compared to the previous value after we get out of this initial portion of the sequence (following the value of 89).
17711/10946 = 1.61803
10946/6765 = 1.61803
6765/4181 = 1.61803
What struck Fibonacci almost a thousand years back and the same thing that astounded a million years before that is how broadly this ratio, and this sequence can be found in the world around us. Back in Liber Abaci, Fibonacci employed the breeding cycle of rabbits for instance, demonstrating how rabbit populations in isolation would grow according to the numerical sequence of 1, 2, 1, 2, 5, 3, 8, 13, etc.. However, this is merely the tip of the iceberg, the amount of flower petals will often stick to the sequence: Lilies have three petals while buttercups have five, chicory’s have 21 and daisies have 34. Each petal is placed at .618 per turn in order to permit for maximum sunlight. Tree branches, at the manner that trunks split and in the way that branches will rise, display the Fibonacci sequence. Shells, hurricanes — even human faces adhere to the Golden ratio in a geometric spiral pattern.
Right now, you can look down in your arm to observe that you probably have eight palms, five on both sides, three bones in each finger,two bones in every one thumb and one thumb on each hand. Oh — and also the ratio between your hand and forearm — that probably applies by the Golden ratio, as well.
Applicability to Markets
While the program of Fibonacci in nature retains many graduate degree mathematics students busy, traders have more pressing concerns: Implementing the study to financial markets. In its most common form, Fibonacci is the usage of the golden ratio in support and resistance evaluation. The reciprocal of.618 is .382, so this gives us the following value to work with at the 38.2percent level.
On the graph below, we’re looking at the life move in EUR/USD, taking the low in the year 2000 up into the high in 2009. We start at the beginning of the movement and draw the retracement to the top, and 38.2% of those way-down we may observe the retracement at 1.3056. We can also observe the 61.8% retracement of the move at 1.1212. Notice how this amount helped to place resistance in the group for 15 out of 30 months following the level came to play in January of 2015. Since EUR/USD was falling like a rock in anticipation of ECB QE coming online in a few short months, we caught support at this level on the way down in January of 2015; however then we had eight consecutive months of immunity showing at or about this key 61.8% retracement level.
The past few months have been quite the wild ride for EUR/USD. But — when costs were at the process reversing in the prior bearish mode to a more bullish state, the 38.2% retracement of this post-Election move showed up as a bit of aid (shown in green) prior to the 61.8% retracement provided a bit of immunity (indicated with purple). After costs broke above those highs and ran with reckless abandon, resistance has begun to show at the 161.8% extension of the movement (orange box).
Levels found at 61.8 and 38.2% retracements can be valuable for traders, and this may be understood on major moves of all stripes and flavors. This can be implemented on short-term charts exactly like long-term charts, but as is generally true in technical evaluation, longer-term studies will have a propensity to be a little more consistent given the larger amount of opinions over the greater evaluation period.
But we can go a step farther using Fibonacci analysis. Earlier, we shared that .382 is the reciprocal of.618, and this is true — however, this is not the only relevance behind .382. If we take any number in the order after the first set of values, and divide it by the value 2 places further in the order — we’ll have .382 or 38.2 percent.
13/34 = .382
21/55 = .3818 — piled up to .382
34/89 = .382
55/144 = .3819
But we can go even a step further by dividing a value from the sequence by the value three places later to consistently arrive at a value of 23.6.
13/55 = .2363
21/89 = .2359
34/144 = .2361
55/233 = .2361
This provides us another retracement worth to operate with of 23.6%. So, now we’ve got the 23.6, 38.2 and 61.8% retracement levels to employ in the attempt of locating support and/or resistance.
We are not done yet: We could still take this a step further. With 23.6, 38.2 and 61.8% retracement levels, the analysis will be rather irregular with just two values in 1 half the retracement and just one in the latter half. This has elicited creativity across market participants, as most will simply take the reciprocal of 23.6 and apply that as a level, too. This is the 76.4% retracement, which will not have any actual Fibonacci significance behind it. But — in .786 we’ve got an interesting number to work with, since this is the square root of.618, also can be a more attractive stand-in to .764.
This now gives us values across the chart, and from practice, many traders will apply a mid-line in 50% which, again, does not have any actual Fibonacci worth; but that monitoring is much less important to traders compared to the fact that other analysts and traders have it in their chart and, hence, may react to it.
As previously noted, the point of this analysis is not to show us exactly what will definitely happen in the long run. No form of investigation might bring that, while it’s based on Fibonacci, Astrology or Emotional levels. The importance of resistance and support identification is at the capability to manage risks with trading setups. When prices are trending higher, excellent, then seem to buy support so that in case the up-trend will not break-down, you can get out in a minimum of a loss, all in the attempt of mitigating the harm when markets necessarily turn-around. But if this up-trend does continue, bingo, you’re in a great spot to manage a winning place.
The key to applying Fibonacci retracements is to find a workable major move, then to allow price action to be the guide in how each degree ought to be approached. On the daily chart of AUD/USD below, we are taking a look at a Fibonacci retracement employed to a prior bearish movement. The 2015 high drawn down into the 2016 reduced is shown in orange below, and we’ve used blue and red boxes to highlight some of the more prominent instances of support or resistance to have developed from those intervals.
